The government has been concerned “for some time” about the risks rising interest rates would have for mortgage holders already near debt-servicing limits, Prime Minister Bill English says.
In the end, responsibility lies with borrowers who take on mortgage debt with their “eyes open,” knowing the risks, he said.
And despite potential concerns that some individual borrowers are at risk in terms of serviceability, the financial system as a whole could handle the scenario of mortgage interest rates hitting 7.5%. Rates were also not likely to hit that level in the near future, he said.
English was speaking to media at his post-cabinet press conference Monday afternoon, having been asked about Reserve Bank advice in January to his office detailing the impact rising interest rates could have on mortgage holders.
The Green Party Monday morning released the advice, obtained under the Official Information Act, that rising household debt levels in New Zealand created a vulnerability to rising interest rates.
“Early data from our revised debt-to-income collection suggests that indebtedness is particularly high among new mortgage borrowers, owing to sharp increases in house prices,” the January RBNZ note to the PM’s office said.
Affordability pressures were most acute in the Auckland region, where a typical debt-to-income ratio for first homebuyers was 5.5 times, it noted. RBNZ staff said the fact most NZ mortgages were on fixed terms meant the full impact of rising rates would take time to show through.
“Although this provides time to adjust to higher housing costs, we expect that a significant increase in interest rates would eventually create material financial pressures for indebted households,” the RBNZ said.
The Bank said revised DTI data showed a typical first home buyer outside Auckland was likely already committing about 43% of net income to housing costs. In Auckland that figure was closer to 60%.
“At a mortgage rate of 7.5[%], assuming that incomes and debt levels remain at current levels, these ratios would rise to over 50% and 70%, respectively. Some other owner-occupier incomes would also be stretched at a mortgage rate of 7.5. For example, at least a quarter of other owner-occupiers in Auckland would have housing costs exceeding 70% of their net income.”
English said on Monday that it was always the case that in a fast-rising market, people stretching themselves to borrow a lot of money were vulnerable to interest rate increases. He also noted the danger that property prices could fall – as they had done in other markets with similar dynamics.
“We’ve always been concerned about it, and said so publicly,” he said. ““In the end, it’s a matter for the borrower. They take a risk by really stretching themselves, and they will have to deal with the consequences of rising interest rates if that’s what happens.”
English noted that banks do make lending decisions with built-in buffers of whether a borrower could afford a higher rate before allowing a mortgage.
In its advice, the RBNZ has said banks “generally test loan applications by applying interest rates that are significantly above current mortgage rates and examining whether residual income after servicing the debt is sufficient to meet the borrower’s other living expenses.” In recent times this had typically involved a stressed mortgage interest rate of 7-7.5% being applied, the RBNZ said.
However, they added that: “While this approach should help to ensure that borrowers are resilient to interest rate increases, we have some concerns as to whether allowances for essential expenditures in these calculations (which may differ across household types) are realistic.”
A significant number of households, particularly in the upper quartile range of DTI ratios, would have to materially reduce consumption spending from normal levels given a mortgage interest rate of 7%, the RBNZ said.
“New borrowers in Auckland especially are less cushioned against interest rate rises given their higher DTIs and larger proportion of income spent on mortgages, leading to a significant likelihood of financial distress given a rise in the mortgage rate.”
'Eyes wide open'
English said the Reserve Bank had then raised the prospect that being able to limit debt-to-income ratios could help. The government earlier this year kicked the potential macro-prudential DTI policy into touch until after the election.
However, he stressed that the advice related to household pressures, and that there was no suggestion the outcome would be a threat to the stability of the financial system.
“The households go into…this level of borrowing with their eyes open, knowing that they’re taking a risk on interest rates in the hope of getting into the market, getting into the house and maybe getting the value uplift that goes with a rising market,” English said.
It was good that the Reserve Bank and banks were taking steps to ensure the financial system wasn’t threatened by the prospect of rising interest rates, he said.
“Why would anyone else take responsibility for [a household’s] risk? The system does what it needs to, to ensure the system isn’t at risk. Quite happy that the Reserve Bank and the banks have taken reasonable steps there. But in the end it’s up to households to take responsibility for their own level of borrowing.”
‘Fundamental issue remains housing supply’
Interest.co.nz asked English whether there was extra the government could do more broadly, such as levelling the tax playing field for housing against other types of savings products. This follows economist Andrew Coleman’s public lecture on the subject last month.
“I understand those arguments are being made. We’ve made some changes to the tax regime which we think are satisfactory,” English said. “I don’t think you’d want to get it out of proportion.”
“The fundamental issue remains [housing] supply. And whatever the house price level, you are going to find households who stretch themselves to get enough debt, and they’re always going to be vulnerable to rises in interest rates. That’s a risk they take.”
Hobsonville working closely with HNZ
Meanwhile, more specifically on the supply issue, English was asked about the government’s upcoming announcements on Auckland housing supply, expected before the 25 May Budget.
He responded that the Hobsonville land company had been working closely with Housing New Zealand regarding other potential densification projects on Crown land in other parts of Auckland.
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